Guest post from the Hennessee Group.
HEDGE FUNDS DECLINE -0.96% IN NOVEMBER
(Sounds like a Broken Record) Hedge Funds Get ‘Whipsawed’ Again
December 8, 2011 – New York, NY – Hennessee Group LLC, an adviser to hedge fund investors, announced today that the Hennessee Hedge Fund Index declined -0.96% in November (-3.91% YTD), while the S&P 500 decreased -0.51% (-0.85% YTD), the Dow Jones Industrial Average advanced +0.76% (+4.04% YTD), and the NASDAQ Composite Index fell -2.39% (-1.23% YTD). The Barclays Aggregate Bond Index lost -0.09% (+6.69% YTD) as bonds were mixed. Treasuries increased with the S&P/BG Cantor 7-10 Year Treasury Bond Index climbing +0.70% (+13.52%), while the Barclays High Yield Credit Bond Index fell -2.74% (+1.66% YTD).
“One hedge fund manager referred to November as a game of ‘macro roulette’ with major equity indices fluctuating wildly on news concerning the European sovereign debt crisis,” commented Charles Gradante, Co-Founder of Hennessee Group. “For most of the month, the markets were in ‘risk off’ mode, and global equity markets plunged. At one point, the S&P 500 was down over -9% for the month. The last few days of November saw a complete reversal and a rally in response to coordinated global easing and the hope for European stability, erasing the month’s losses. This environment has proven extremely challenging, and hedge funds were whipsawed again.”
“Hedge funds have been conservatively this year positioned due to elevated risks in the market. As a result, they have underperformed for the year,” commented Lee Hennessee, Managing Principal of Hennessee Group. “In recent weeks, hedge funds have increased net exposures marginally, but remain well hedged. They have consolidated into high conviction names and added macro level protection. Despite recent challenges, many are optimistic and want to remain flexible in order to take advantage of attractive investment opportunities once markets stabilize.”
The Hennessee Long/Short Equity Index declined -0.45% (-2.94% YTD) in November. Hedge funds entered the month with conservative exposures and were positioned well to protect capital in a down market. Equity markets traded mostly lower during the month, dragged down by about the worsening European debt crisis. However, a strong three-day rally at month end, which saw the S&P 500 Index gain +7.69%, reversed the month’s losses. The best performing sectors during the month were consumer staples (+2.41%) and energy (+1.65%), while the worst performing sectors were financials (-5.02%) and information technology (-1.87%). Hedge funds underperformed the markets during the rally as short portfolios generated losses. In addition, several managers reported that long positions lagged as many names faced selling pressure ahead of year end. While managers remain cautious about the macro picture, managers are bullish on equities over the longer term. Companies have strong fundamentals and posted record earnings in the third quarter of 2011. Cash is at an all-time high, dividend payments are up, and cash flow is strong. However, over the shorter term, managers are cautious, as the investment environment has become extremely challenging. In the current environment, managers are well hedged in order to protect capital in case of a major ‘risk off’ move and with significant cash balances in order to be opportunistic once new investment opportunities present themselves.
“As many hedge fund managers anticipated, the ‘Super Committee’, which was tasked with creating a plan to reduce the U.S. deficit by November 23rd, did not deliver” commented Charles Gradante. “Both political parties appear to be digging in their heels and plan to make debt reduction a key issue in the 2012 election year. The result will be greater uncertainty for the markets, which will continue to serve as a headwind for equity markets.”
The Hennessee Arbitrage/Event Driven Index declined in November, falling -0.47% (-2.15% YTD) as risk assets declined and spreads widened. The Barclays Aggregate Bond Index fell, down -0.09% (+6.69% YTD). Treasuries were positive, as the S&P/BG Cantor 7-10 Year Treasury Bond Index advanced +0.70% (+13.52%). The Barclays High Yield Credit Bond Index declined -2.74% (+1.74% YTD). High yield credit spreads widened from 707 basis points to 779 basis points at month end. Managers state that spreads for high yield bonds and loans are cheap relative to default risk, though managers remain cautious as macro risks are extensive, volatility remains high, and interest rates are at historically low levels, justifying the higher than average spread. That said, this provides attractive security selection opportunities for credit focused hedge funds. The Hennessee Distressed Index declined -0.96% in November (-3.26% YTD). Default activity picked up to the highest level since November 2009 as American Airlines filed for bankruptcy. However, default rates remain low and are expected to remain low for the next couple years. Distressed managers suffered losses due to weakness in illiquid names and post reorganization equities, which lagged during the late month rally. The Hennessee Merger Arbitrage Index increased +0.13% in November (+0.00% YTD). Merger arbitrage funds were essentially flat for the month. Deal activity continues, and managers are actively putting capital to work. The volatility is providing trading opportunities as managers continue to focus on strategic deals. The Hennessee Convertible Arbitrage Index declined -0.29% (-0.88% YTD) in November. Convertible portfolios were down slightly due to wider credit spreads. Volume was light and valuations were little changed.
“While the U.S. economic data appears to be somewhat encouraging, European debt and economic worries will likely continue to weigh on investor confidence. Most managers expect very low GDP growth for the Eurozone next year and for several countries to contract,” commented Charles Gradante. “Austerity measures have already pushed some periphery countries into recession. Thus, the investment outlook remains negative. However, managers are optimistic that this will create compelling opportunities across several strategies, including event driven, distressed and macro.”
The Hennessee Global/Macro Index declined -2.77% in November (-8.01% YTD), driven by losses in global markets. International equities performed in line with U.S. stocks throughout November, though movements were amplified. The month was dominated by two key negative issues: U.S. and European debt and the slowing growth of European nations. Conditions dramatically approved on November 30, when central banks in the U.S., EU, Britain, Canada, Japan and Switzerland lowered the cost of U.S. dollar swaps by 50 basis points in order to increase global liquidity, resulting in a strong global rally in risk assets. Despite the month-end rally, the MSCI EAFE was down -4.85% for November (-11.30% YTD). The financial sector was the hardest hit due to its exposure to European sovereign debt. International hedge fund managers were negative, but outperformed as the Hennessee International Index fell only -0.71% (-5.63% YTD). The MSCI Emerging Markets Index lost -6.75% for the month, leaving it down -19.37% for the year. Managers suffered losses as equities fell due to concerns about slower growth. Key detractors included Brazil (-7.21%), India (-15.19%), and China (-8.46%). Hedge fund managers were down, but outperformed due to hedges, as the Hennessee Emerging Markets Index was down -3.60% (-12.06% YTD). The Hennessee Macro Index was down -1.12% in November (-2.23% YTD). Macro funds continue to post mixed performance, with some funds generating profits in gold, treasuries and the U.S. dollar, while others experiences losses due to currency, commodities and equity exposures. The U.S. Dollar Index increased +2.89% (-0.84% YTD), benefiting funds positioned with a “risk off” bias. Managers also generated gains long precious metals as gold closed the month at $1,751 per troy ounce. Treasuries advanced as interest rates decreased in November. The 10-year Treasury declined to 2.09% and the 30-year Treasury decreased to 3.07%. Outside of precious metals, commodity prices were mostly down.
* For a more in depth monthly review of the economy, capital markets, and hedge fund performance and strategies, the Hennessee Group offers the monthly Hennessee Hedge Fund Review (www.hennesseegroup.com/hhfr/ <http://www.hennesseegroup.com/hhfr/> ).